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Key aspects sinking the Zimbabwean Dollar

19 Jul 2020 at 07:03hrs | Views
The Zimbabwean economy is rapidly re-dollarizing, less than 12 months after the government banned the trading of multiple currencies through Statutory Instrument 142 of 2019 and introduced a local currency. Even though the US Dollar never left the market, it is the rate at which the recently re-introduced Zimbabwean Dollar has depreciated that warrants self-introspection by the monetary authorities and the government. The local currency has plummeted from the February rate of US$1: ZWL$2.5 on the formal market to ZWL$68.88, while on the parallel market it has plunged from US1: ZWL$4 to ZWL$100 prevailing now. There is no doubt that the Zimbabwean Dollar was hurriedly launched to silence demands from the restive civil service for remuneration in foreign currency, however it could have been sustained provided there was commitment to address the fundamental aspects that bring currency stability. That the country needs its own currency is undeniable, however it is the economic fundamentals that provide stability to that currency where government has serious shortcomings.

The economy is expected to decline by at least 12-15% in 2020 and annual inflation forecasted to steadily increase from the 786% recorded in May 2020 due to pressure on the little available foreign currency. Wage demands on the government and private sector for remuneration in foreign currency will lead to heightened pressure for the authorities to do away with the waning local currency. It is now inevitable that the economy will move from partial dollarization back to the 2009 scenario of full dollarization. However it's imperative from an economic point of view to assess what is sinking the Zimbabwean Dollar thus far

Unrestrained money supply growth
In 2019, Reserve Money (Currency in circulation plus bank deposits) grew from Z$3.019 billion to Z$10.335 billion despite the fact that the economy contracted by over 6.5% according to official figures. In the past 6 months, reserve money has grown to Z$12.564 billion. The growth in money supply which does not correspond to growth in economic productivity leads to high levels of inflation as too much money chases the same amount of goods or even fewer ones. Manufacturing capacity utilization in Zimbabwean industries closed the year below 37% in 2019 and is hovering around 28% for the first half of 2020. This means that demand for imports to augment local supply is now back to the 2009 levels when industrial capacity was below 30%. The high demand for imports leads to exchange rate losses for the local currency. Money supply growth is largely a result of the central bank Quasi Fiscal activities in incentivizing Gold producers among other local producers and government subsidies funded through virtual money creation. The Zimbabwean government has been subsidizing the consumption of maize, wheat, fuel, electricity, soya beans, cooking oil and agricultural inputs among other basic commodities for the past 4 years. The consumption subsidies are not sustainable because they are not funded from tax revenues, they hurt exports and they create a huge consumption appetite in an economy with limited production capacity.

Declining production
Zimbabwe's agricultural and manufacturing production have plunged to record lows due to lack of capital and limited investment, obsolete equipment and flawed government policies on land tenure and producer prices. Production for key commodities such as maize meal, wheat and soya in the past 5 years have been declining. The country needs 2.1 million metric tonnes (mt) of maize against annual average production average of 920 000mt in the past 5 years. Annual demand for wheat stands at 460 000mt against average production of 116 000mt and demand for Soya stands at 220 000 mt against production averaging 41 000 mt. This means that Zimbabwe has to import more than 60% of its food despite being endowed with vast tracts of land, abundant water bodies and billions in funding for command agriculture. Agriculture feeds directly into the manufacturing sector and low production for both sectors means sustained pressure on foreign currency to import food. This weakens the Zimbabwean Dollar.

Lack of Foreign currency reserves
Zimbabwe has no reserves to talk of in terms of foreign currency or Gold. The country is saddled with external debts of over US$9.862 billion as of March 2020, with over US$6.2 billion in arrears. Foreign lenders have been unwilling to extend new lines of credit to the country in the absence of debt repayment plans and tangible economic and political reforms. Without foreign currency reserves, the country has no capacity to bring foreign exchange liquidity in the market, induce market confidence and maintain the value of the Zimbabwean Dollar in a market where trust in the central bank and government policy is non-existent. Countries use their foreign exchange reserves to keep the value of their currencies at a fixed rate, stabilize prizes and pay external obligations.

Monetary Policy Inconsistency
After adopting multiple currencies in 2009 and demonetizing the Zimbabwean Dollar on 12 June 2015. The government vowed never to introduce a local currency until economic fundamentals such as production and export capacity, debt levels, reserves and confidence had improved. However in November 2016, the Bond Note was introduced as an export incentive at par with the US Dollar. At that time, authorities highlighted that a separate account for foreign currency was not needed by account holders. However in October 2018, the central bank gave local banks an ultimatum to separate the so called US Dollar accounts and Foreign Currency Accounts (FCAs). After 4 years of pumping Treasury Bills (TBs) worth Z$8.5 billion into the market, the RTGS became a currency in February 2019 and In June, the Zimbabwean Dollar was introduced through the ban on foreign currencies. In March 2020, the suspension on foreign currency trading was lifted. A barrage of directives pertaining to exchange controls, mobile money platforms, securities trading and export retentions underline these policy inconsistencies. All these policy flip flops, knee-jerk directives and Statutory Instruments have wiped out any confidence the market has in the monetary policy and the Zimbabwean Dollar.

Inefficient Forex market
The Interbank market failed to attract foreign currency into the formal financial market due to the central bank insistence on a crawling or fixed exchange rate. The apex bank would also covertly manage the exchange rate so as to obtain cheap foreign currency from exporters and manage inflation at the same time. This rendered the foreign exchange market ineffective and inefficient in a market where return on other money market securities is negative. Ultimately the US Dollar became a hot commodity to store value and shield against inflation.

Local producers now rely on the parallel market for liquidity to import essential raw materials and pay for external obligations, thus indexing goods against the parallel market rates. This creates a price increase spiral and weakens the Zimbabwean Dollar. In 2019, only US$1.5 billion was traded on the interbank market versus local demand that exceeded US$7 billion. The Interbank market has now been abolished in favour of the relaunched Auction System and it remains to be seen if the latter will unlock the foreign exchange supply puzzle.

In all the above aspects, the ugly head of corruption has spread its tentacles on entirely every corner from foreign currency or cash allocations, importation of key commodities such as fuel and grain among others, exports of precious minerals, government subsidies distribution and assumption of private sector bad debts by the government. Vested interests in the sustenance of subsidies, quasi fiscal activities and foreign currency allocation have derailed any reforms to have transparency and accountability in government policy. In the end the local market ultimately rejects the Zimbabwean Dollar in favour of a currency that meets the basic tenets of money which are a store of value, a standard for deferred payments and a medium of exchange. It is mere scapegoating to say mobile money platforms, parallel market dealers, producers, the Zimbabwe Stock Exchange (ZSE), the Old Mutual Implied Rate (OMIR) or other exogenous factors are sinking the Zimbabwean Dollar while ignoring the source of money supply or the essence of economic fundamentals that bring local currency stability. The fundamentals that bring currency stability are universal and the government of Zimbabwe needs to reform in the way it manages the economy before aiming to de-dollarize.

Victor Bhoroma is a freelance economic analyst. He holds an MBA from the University of Zimbabwe (UZ). For feedback, mail on or follow him on Twitter @VictorBhoroma1.

Source - Victor Bhoroma
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